A manufacturing company has some existing semiautomatic production equipment that it is considering replacing. This equipment...

A manufacturing company has some existing semiautomatic production equipment that it is considering replacing. This equipment has a present MV of $55,000 and a BV of $27,000. It has five more years of depreciation available under MACRS (ADS) of $6,000 per year for four years and $3,000 in year five. (The original recovery period was nine years.) The estimated MV of the equipment five years from now is $19,000. The total annual operating and maintenance expenses are averaging $27,000 per year.

New automated replacement equipment would then be leased. Estimated annual operating expenses for the new equipment are $12,000 per year. The annual leasing costs would be $24,300. The MARR (after taxes) is 5%per year,t equals=50%, and the analysis period is five years.(Remember:The owner claims depreciation, and the leasing cost is an operating expense.) Based on an after-tax analysis, should the new equipment be leased? Base your answer on the IRR of the incremental cash flow.

a. The actual IRR of the incremental cash flow is ?

b. The challenger should be leased or rejected?

Solutions

Expert Solution

Year	Sale of machine after tax	Tax benefit on Depreciation foregone	Sale of machine foregone	Saving in annual operating and maintenance post tax	Leasing costs after tax	Incremental cash flows
0	41000					41000
1		-3000		7500	-12150	-7650
2		-3000		7500	-12150	-7650
3		-3000		7500	-12150	-7650
4		-3000		7500	-12150	-7650
5		-1500	-9500	7500	-12150	-15650

					IRR	3.71%

Based on IRR, the lease should not be accepted since IRR is lesser than MARR

Formulae attached for reference

jeff jeffy answered 2 months ago

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